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STRATEGY
In some Chinese dialects "yum cha" is said to sound like "drink tea," an idiom that can mean to dine on small plates. But the appetite the Asian nation has shown for Yum! Brands' prime brands, KFC and Pizza Hut, is anything but small. No competitor is even close to the success that Yum! has had in China. The company's strategy for profitable growth is explained. What started as a single KFC franchise in 1992 has exploded into over 1500 outlets in China as Yum! Brands' international dominance makes it the largest fast-food restaurant organization, surpassing McDonalds by number of units with over 34,000 restaurants worldwide. The Fortune 500 company has pinned its strategy on international growth, with China as a key market. Yum! Brands was spun off from PepsiCo in 1997. First called Tricon Global Restaurants Inc, it included KFC, Pizza Hut and Taco Bell. Long John Silver and A&W were added when Tricon bought Yorkshire Global Restaurants in 2002. The corporate name was changed to Yum! to reflect the broad base of restaurant choices. The China division was established as a separate entity in 2005. The two most prominent Yum! brands are KFC (formerly Kentucky Fried Chicken) and Pizza Hut, and both constitute the huge success story in China. The results of a recent internal survey by Yum! reveal that KFC it is the #1 brand across China. In fact, 59% surveyed said KFC was the most preferred brand compared to 31% for McDonalds. Pizza Hut is thriving in China as well, with a 35% unit growth and positive same-store sales growth last year. It added 50 units in 2005 alone. It is the #1 leader in branded casual dining with stores in 50 cities in China, according to Yum. Taking Cash Out Profitable growth has allowed the company's treasury department to repatriate cash successfully. "Yum! Brands has been operating in China for quite some time and therefore we have become very familiar with the rules and processes of conducting business over there, including the ability to take cash out," said Chris Kreidler, Senior Vice President Corporate Strategy and Treasurer at Yum!. "First, you have to start with the rules, the primary one being you can only dividend out profits. So before you can take cash out, you have to have generated profits in the past, which Yum has since we've been operating successfully in China for quite a while. Then, you need to work closely with every level of government - local, provincial and national - and follow every step of their process," Kreidler said. "We've been at this for a number of years, so we have experienced people in China who know what to do and how to do it." In an interview last year with USA Today, Yum! president and CEO David Novak was quoted as saying that the company at that time had been so successful in repatriating profits that the China division was basically funding its own growth and still sending free cash flow back to the U.S. Risk Management Not that the progress has been without bumps. In 2005, operating profits were $12 million below the previous year, due to two major challenges. Speaking at a 4Q05 earnings conference call in February, CFO Richard "Rick" Carucci, attributed weak sales to an Avian flu scare early in the fourth quarter and an ingredient issue in the second. But fourth quarter profits improved by December. Yum's treasurer looks at risks broadly: "Risk starts with the business and the consumer and the competition. More and more western and Chinese brands will be available in the future, so we need to stay relevant and top-of-mind with the consumer." "Also, you always need to be conscious of the rules and culture of the foreign country in which you are operating, in this case China," Kreidler told ChinaForum. Future Expansion Plans These days, expansion plans include 400 new restaurants for 2006 in the giant Asia nation, according to Yum!, following a banner year in 2005 in which the company experienced 19% unit growth, outpacing McDonalds three to one. Expansion to the hinterlands is viewed symbolically. Sam Su, president of Yum!'s China division, was quoted on Salon.com as saying that in many parts of China, the local municipal governments actually see the arrival of a KFC as a sign of the city coming of age. "One day we will have more restaurants in China than in the U.S.," Novak said at the Yum! Brands Investors/Analysts Conference in December in New York City. Growth includes expansion of the Pizza Hut home delivery service which, according to Su, is now profitable. The home delivery service began in 2001. Today, stores number 18 in Shanghai, 4 in Beijing, 2 in Shenzhen and 1 in Hangzhou. Rapid expansion is projected, with 150 units expected by 2008. East Dawning is the newest addition to the China Yum! dynasty. It is a new Chinese menu fast food enterprise based in Shanghai, where three restaurants are showing great promise. Based on the premise that Chinese people like Chinese food, this is the first foray for Yum! into this market. But the early indicators are strong. According to Yum! research, customers are showing a "very high revisit intent," with a "higher visit frequency than KFC." Yum! plans to expand East Dawning from three units in Shanghai to eight more builds in 2006. The biggest growth in China will be in the next five years, according to CFO Carucci. The year-over-year growth rate for 2006 alone will strengthen as the year unfolds, he said. First quarter sales for 2006 grew 16% after conversion to U.S. dollars. Note: Chris Kreidler is a member of ChinaForum's advisory board. -Elizabeth Johns contributed to this article. Copyright © ChinaForum 2006 |
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